BIS Tells Central Banks to Ease Off

Jaime Caruana, the General Manager of the BIS, gave a speech today on the occasion of the Bank’s Annual General Meeting. It is titled, “Making the most of borrowed time.” In short, he said that central banks have done all that they can do and it is time for them to ease off of easing:

Central banks have borrowed the time that the private and public sectors need for adjustment, but they cannot substitute for it. Moreover, such borrowing has costs. As the stimulus is sustained, it magnifies the challenges of normalising monetary policy; it increases financial stability risks; and it worsens the misallocation of capital.

Finally, prolonging the period of very low interest rates further exposes open economies to spillovers that are now widely recognised. The challenges are particularly severe for the emerging market economies and smaller advanced economies where credit and property prices have been rapidly growing. The risks from such a domestic credit boom at a late stage of the economic cycle are hard enough to manage. Strong capital inflows exacerbate such risks and challenges for market participants and authorities; and they expose economies to large sudden reversals if markets expect an exit from unconventional policies, as volatility during the past few weeks seems to indicate.

In short, the balance of costs and benefits entailed by continued monetary easing has been deteriorating. Borrowed time should be used to restore the foundations of solid long-term growth. This includes ending the dependence on debt; improving economic flexibility to strengthen productivity growth; completing regulatory reform; and recognising the limits of what central banks can and should do.

In essence, he said that monetary policy has enabled even more leveraging of private-sector balance sheets and the continuation of reckless fiscal policies. He said, “Ultra-low interest rates encourage the build-up of even more debt. In fact, despite some household deleveraging in some countries, total debt, private and public, has generally increased as a share of GDP since 2007.”

He sided with the austerians who claim that mounting government debts are depressing rather than stimulating economic growth:

Low rates have allowed the public sector to postpone consolidation at the risk of a further deterioration in sovereign credit quality and damage to longer-term growth. There is plenty of evidence that as public debt surpasses about 80% of GDP, it becomes a drag on growth--because it raises debt servicing costs (and uncertainty about the future tax burden); it increases sovereign risk premia; and it reduces the room available for countercyclical policy.

Caruana’s speech provided a good overview of the main themes of the BIS Annual Report.